It is stunning how many people got caught up in this. According to Wallison, the twenty-five million subprime and Alt-A loans amounted to almost 45 percent of all single-family mortgages in the United States in 2009. Not so long ago, this was the norm: Your parents saved long and hard to make a 10 or 20 percent down payment on their home and took out a thirty-year mortgage for the balance from a bank or a credit union, and that institution held the mortgage for its life. You were tethered together. There was a sense of mutual accountability. The new system introduced a new norm: These subprime mortgages were extended by banks and mortgage brokers and then immediately sold to bigger financial firms, like Citibank, Merrill Lynch, or Fannie Mae and Freddie Mac—the government-sponsored institutions set up to work with primary mortgage bankers and brokers to help ensure they had funds to lend to home buyers at affordable rates. These investment banks and securities firms earned big fees by bundling thousands of these mortgages together into bonds—known as mortgage-backed securities—and then selling them to buyers all over the world. It seemed to make sense to take a bunch of home mortgages that had a predictable cash flow and package them together into a single bond offering that collected all the monthly mortgage payments and then used that cash flow to pay the interest and principle on the bond to the person who bought it. Presto—you have just created an asset-backed security. Fund managers all over the world bought these bonds. Why not? They were paying interest rates better than your average T-bill, and this fattened the balance sheets of those banks or funds that held them, and they seemed as secure as any AAA corporate bond. After all, the rating agencies gave them good marks and Americans—at least our parents' generation—had a long track record of paying off their mortgages.
"This was certainly true when almost all mortgages were prime—made to people with jobs and down payments and at fixed interest rates for thirty years," said Wallison. "Even in the worst downturns, foreclosure rates rarely reached 4 percent." The boom in subprime mortgages was something entirely new, though, he added. Subprimes had always existed, but were traditionally a small part of the total mortgage pool. There was good reason for this—they are very risky. Some projections of total foreclosure rates in the current downturn are 30 percent, he said. Then why did we go on such a binge? A key factor, said Wallison, was a deliberate United States government policy to foster homeownership and to encourage quasi-government entities that had access to endless cheap capital, particularly home-lending entities like Fannie Mae and Freddie Mac, to make mortgages available to more and more people through "flexible underwriting standards."